Author Topic: Exchange bonds for TIPS?  (Read 1497 times)

jpdx

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Exchange bonds for TIPS?
« on: October 23, 2021, 07:57:07 PM »
Hello, smart people. Given rising inflation, would it be advisable to exchange a portion of bond holdings for TIPS, specifically the Vanguard fund VIPSX? I would be exchanging short term and intermediate term bond funds which means selling them at a slight loss, and this would happen inside tax deferred space.

I should mention I'm maxing out my Series I Bond purchases.

vand

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Re: Exchange bonds for TIPS?
« Reply #1 on: October 25, 2021, 07:11:25 AM »
A lot of people misunderstand what TIPS are. They are not gauranteed inflation protected bonds - they only protect you if inflation is higher than what is already priced into the market.  In the event that the market has got a bit ahead of itself and inflation doesn't actually turn out to be as bad as anticipated, TIPS can lose you money. 

That said, might still be worth holding some, but if you are really worried then commodities have always been the asset class that naturally thrives in an inflationary cycle. Neither TIPS or anything else comes close to their inflation protection qualities.  In a world where fiat money is losing its value quicker and quicker, it makes sense that hard assets that cannot be easily created by the press of a computer button are a natural defense. After all, even TIPS are ultimately just repackaged fiat units.

bacchi

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Re: Exchange bonds for TIPS?
« Reply #2 on: October 25, 2021, 10:34:41 AM »
To put it another way, expected inflation is already priced into TIPS. That boat has sailed. Even buying TIPS at auction won't give you a good yield.

FIPurpose

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Re: Exchange bonds for TIPS?
« Reply #3 on: October 25, 2021, 10:48:58 AM »
Yep, I actually just cut my TIPS holdings almost in half and my Bond holdings by about a third. The past 3 years have been great for TIPS, but as people have said here, their ability to act as a hedge seems unfavorable. And with I-Bonds guaranteeing a 5% return for the next year, the downside risk of TIPS looks silly to invest in.

I've replaced them with I-Bonds and LEAPS against SPY to be my hedge instead.

MY current portfolio is at about:
7-8% Bonds
1% - I Bonds
4% - Tips
8% - LEAPS (far out of the money puts on SPY; one year out; the premium on this is ~4% CAGR)

My plan at the new year is to further exchange TIPS for I Bonds and have closer to 2% holdings for both of them.

vand

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Re: Exchange bonds for TIPS?
« Reply #4 on: November 09, 2021, 02:00:34 AM »
Yep, I actually just cut my TIPS holdings almost in half and my Bond holdings by about a third. The past 3 years have been great for TIPS, but as people have said here, their ability to act as a hedge seems unfavorable. And with I-Bonds guaranteeing a 5% return for the next year, the downside risk of TIPS looks silly to invest in.

I've replaced them with I-Bonds and LEAPS against SPY to be my hedge instead.

MY current portfolio is at about:
7-8% Bonds
1% - I Bonds
4% - Tips
8% - LEAPS (far out of the money puts on SPY; one year out; the premium on this is ~4% CAGR)

My plan at the new year is to further exchange TIPS for I Bonds and have closer to 2% holdings for both of them.

I've done similarly, reducing my already slim bond allocation down by a quarter.  I don't see any way for fixed income to earn any positive real return while real interest rates are so deeply negative.  I've instead shifted to gold/commodities, infrastructure funds, and dividend paying value stocks.

No one has any clue if this higher level of inflation is just transitory. I mean, sure the Fed says that its confident that it's only passing through, but of course that's what they would say.

FLBiker

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Re: Exchange bonds for TIPS?
« Reply #5 on: November 09, 2021, 06:16:10 AM »
I'm also doing I-Bonds (as much as I can) -- currently $20K, will do another $20K in January.  That'll still just be 1.5% of my portfolio though.  I've got ~1/3 of my bond allocation in TIPS as well.  And I'm keeping a bit more cash in "high-interest" savings than I have historically.

MustacheAndaHalf

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Re: Exchange bonds for TIPS?
« Reply #6 on: November 09, 2021, 06:19:31 AM »
8% - LEAPS (far out of the money puts on SPY; one year out; the premium on this is ~4% CAGR)
$469 x 4% is $18.76, which only gets you $395 strike puts expiring Dec 2022.  Those need a 20% drop to break even, while $470 strike puts break even after an 8.4% drop.  What are those puts designed to do for you?  Will you time the bottom?

FIPurpose

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Re: Exchange bonds for TIPS?
« Reply #7 on: November 09, 2021, 08:43:18 AM »
8% - LEAPS (far out of the money puts on SPY; one year out; the premium on this is ~4% CAGR)
$469 x 4% is $18.76, which only gets you $395 strike puts expiring Dec 2022.  Those need a 20% drop to break even, while $470 strike puts break even after an 8.4% drop.  What are those puts designed to do for you?  Will you time the bottom?

Well, I sold them a month ago when SPY was 40 points lower. I have them at $350 and I think I sold them for $17.5? Somewhere around there. OH I see now. You're thinking I'm buying them. No, these are cash covered puts that I'm selling. Basically collecting a 4% premium betting that there isn't a 20% drop in the market. (Now closer to a 25% drop).

My plan if there is a drop is to sell those stocks as covered calls (or just hold) until recovered back to the original value when I originally sold the puts. This would've been triggered twice in the past 30 years, and the quick recovery would mean very good profits when it does happen. (Basically +20-30% over 1-2 years or so)

ChpBstrd

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Re: Exchange bonds for TIPS?
« Reply #8 on: November 09, 2021, 09:20:59 AM »
No one has any clue if this higher level of inflation is just transitory. I mean, sure the Fed says that its confident that it's only passing through, but of course that's what they would say.

The bond market also has an opinion, though it may be incorrect. The blue line is the breakeven inflation rate where 5y TIPs at today's prices would yield the same as 5y treasuries. The red line adjusts the blue line for a couple of factors such as reduced liquidity to get at a more theoretically reliable inflation prediction being made by the market.

http://econbrowser.com/archives/2021/11/what-remains-of-the-inflation-scare-of-october-2021

vand

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Re: Exchange bonds for TIPS?
« Reply #9 on: November 09, 2021, 01:09:34 PM »
No one has any clue if this higher level of inflation is just transitory. I mean, sure the Fed says that its confident that it's only passing through, but of course that's what they would say.

The bond market also has an opinion, though it may be incorrect. The blue line is the breakeven inflation rate where 5y TIPs at today's prices would yield the same as 5y treasuries. The red line adjusts the blue line for a couple of factors such as reduced liquidity to get at a more theoretically reliable inflation prediction being made by the market.

http://econbrowser.com/archives/2021/11/what-remains-of-the-inflation-scare-of-october-2021

I've basically revised my opinion that the bond market is smarter than the stock market at predicting inflation. While you'd think that bond investors would be more vigilant to the threat inflation given the nature of fixed income, the actual historical data shows that bond holders are just a clueless about predicting future inflation as anyone else and basically base their expectation off the past:

https://www.piie.com/blogs/realtime-economic-issues-watch/bond-yields-are-not-good-predictors-inflation

cool7hand

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Re: Exchange bonds for TIPS?
« Reply #10 on: November 12, 2021, 10:51:14 AM »
Isn't the desire to buy TIPS just a form of market timing? No worries if that's your goal, but you might consider whether market timing is strategy you believe in or not.

MustacheAndaHalf

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Re: Exchange bonds for TIPS?
« Reply #11 on: November 13, 2021, 02:15:33 AM »
Hello, smart people. Given rising inflation, would it be advisable to exchange a portion of bond holdings for TIPS, specifically the Vanguard fund VIPSX?
It's worth asking yourself "Why is there a free lunch?"
Professionals work in the bond market all week long - won't they know about inflation before you?  In this case I'd say it's already priced in.

You can look at the last month of TIPS vs bond market, and the bond market is ahead 0.5%.  That's another indication it's priced in, and TIPS aren't gaining much from continuing high inflation.

YTD TIPS beat bonds, but in 2019 and 2020 it was the other way around.  TIPS pull ahead during an inflation surprise, but not months after inflation spikes upwards.